The good, the bad, and the in-between: Breaking down the Dayton budget

Governor Dayton’s budget proposal has a lot of moving pieces.  Let’s look at the components of the plan, and see whether they make sense or not.

GOOD:  This is an honest budget, with a minimum of gimmicks

Whether you approve of Dayton’s proposals or not, the Governor did live up to his word of eschewing the sorts of budgetary gimmicks, shifts, and one-time maneuvers of recent state budgets.  Dayton has paid for his spending priorities through increased taxes instead of using other dubious means to avoid making the hard decisions.  The only questionable tactic here is his decision not to pay back any of the remaining $1.1 billion in K-12 shifts from the previous two budgets in the 2014-15 biennium (Dayton does propose repaying the remaining portion of the shift in the 2016-17 biennium).  Such a payback is not required, but most observers were expecting at least a partial payment in 2014-15, and failure to address this issue has been one of the key components of Republican criticism of the bill so far.

BAD:  Adding a sales tax on clothing items over $100

Dayton’s proposal would apply sales tax to the value of an individual clothing item over $100.  This proposal makes a lot of sense from a pure economic perspective.  45 other states and the District of Columbia have some form of sales tax on clothing.  Much of the rhetoric from opponents has been a bit overheated (like the notion that you can’t buy a decent winter coat for under $100).  The political reality, though, is that this particular exemption is very popular and a key driver of tourism for the Mall of America.  DFLers would be wise not spend political capital on trying to push this through.

GOOD:  Expansion of the sales tax to many consumer services and a lowering of the sales tax rate to 5.5%

Expansion of the sales tax to cover many consumer services makes good economic sense in a lot of ways.  It reflects the reality that our economy has fundamentally changed.  Consumer spending on services is now larger than that on goods, and is spending on services is projected to continue to grow.  As purchases of goods continue to shrink, the sales tax collected will continue to shrink.  Not expanding the sales tax base to include services inevitably means either increases in the sales tax rate on goods or continuing reductions in government spending.  Broadening the base to capture services should also mean less volatility in sales tax receipts going forward.  Spending on big-ticket goods like furniture tends to decline noticeably during recessions, but people still need to get their haircut.  This should help avoid major budget deficits like we’ve seen in recent cycles.  Finally, taxing services as well as goods makes sense from a fairness perspective.  Take the basic example of getting a movie to watch in your home.  If you visit a Redbox or order a pay-per-view movie from a cable provider, you will pay sales tax on the transaction today, but you won’t if you order pay-per-view from a satellite provider.  Dayton’s proposal would make all of these transactions taxable at 5.5%.  The end result of these changes may mean that most families would end up paying the same amount in sales taxes on their consumer purchases as they did before, as a result of the rate being reduced by 20%.

BAD:  Expansion of the sales tax to many business-to-business services

This is where Dayton’s claims about the sales tax reform not increasing the amount of money spent by consumers get tricky.  The net impact of the sales tax reform is an increase of about $2.1 billion in revenue to the state.  If consumers aren’t paying it, then who is?  Businesses, via business-to-business (B2B) services, such as legal, accounting, and advertising.  There are several problems with moving to tax these sorts of services, but let’s talk about a couple of the most prominent.  The first problem is known as “tax pyramiding”.  This means that the additional sales taxes paid by businesses will be passed along to consumers.  For instance, groceries are still exempt from sales taxes under the Dayton proposal.  However, if a grocery store pays sales tax on work it does with an advertising agency, those costs will go into the store’s overhead and be passed along to consumers through higher prices.  This means that consumers will effectively be paying sales taxes on groceries even though there’s no sales tax charged at the final register.  The second problem is that many states don’t tax such B2B services.  With an increasing ability to outsource many business services outside the state, such a move does put local businesses at some risk of being at a competitive disadvantage.  While there are reasonable arguments to be made in favor of taxing B2B services (such as the potential for distortion of activity and labor markets, the fact that businesses already pay sales taxes on many of their goods purchased, and the potential for tax evasion), we should be cautious not to overstep here.  Consumers will likely end up footing a very real portion of that $2.1 billion in increase sales tax revenue.  It is not realistic to expect businesses will eat that additional expense.

GOOD:  Restoration of the renter’s tax credit

Dayton’s budget restores full funding of the renter’s tax credit (cut as part of last session’s budget deal).  This is a big win for low- and middle-income folks who don’t own their own home.

IN-BETWEEN:  Property tax relief

Dayton made good on his pledge to help homeowners deal with rapidly growing property tax bills.  The problem here is that the solution, a $500 rebate, is a decidedly imperfect way to go about it.  Minnesota has the most complex property tax system in the country, and the guts of the system were left unchanged.  Minnesotans deserve more coherent property tax reform instead of just slapping on a rebate to paper over some of the problems.

What are your thoughts?  Share them in the comments below.

[Edit made 11 a.m. 1/25 to clarify wording on the school shift]


17 Responses to “The good, the bad, and the in-between: Breaking down the Dayton budget”

  1. No gimmicks? Maybe so. Leaving that shift out there after raising revenue is a bad idea. After all, we know that taking more out of Minnesotans pockets will result in economic distress which means less revenue as these increases kick, since a good chunk comes from increases in sales taxes. Slow economic periods mean less revenue, period. So, if the impact of the tax increases end up hurting revenue, (which they will), how will the shift ever get paid back? I guess we can all hope that nationally, the economy improves, and revenue increase from that rising tide. (Although, with the current crop in charge in Washington, you can forget about a noticably better economy for the forseeable future).

  2. The best hope for the payback of the school shift is in the February revenue numbers coming out. We just might be in a better situation than thought, giving even more opportunity to pay back this shift, as was designed by last session’s reinging in of government growth.

  3. I’m not sure that taking more money from people during a down economy is a good idea. SO revenues fall during a bad economy, but the state wants to get theirs first, is that it? I don’t like the broadening base, because you know it’s only a matter of time b4 some politician raises rates back to what they curently are and bring these new taxes along for the ride. The reasoning will be that it wasn’t disruptive to have a sales tax at 6.5% before, why not get back there and get more revenue.

    It never ends with these people. They keep needing more and more of our money.

  4. You might just be half Republican after all. Businesses don’t really pay taxes. Thier customers do. So, yes B2B taxes will make prices go up, and as usual, we’ll all pay for that with increased prices, plus the sales tax to cover the new price increase. Consumers get double-tapped. Again. As usual. When do people open their eyes?

  5. Oh, and I also have another BAD for your list. This budget contains the largest tax increase in history on Minnesotans. EVER. Some think that’s good for the state? Not a chance.

    • In absolute dollar terms, yes. But it’s far, far smaller on a percentage basis than the “Minnesota Miracle” tax hikes of 1971, which added 20% to state’s tax base.

      • 2 billion in new revenue, and still can’t pay back the shift? Seems irresponsible.

        • $1 billion in practical new revenue; the rest is covering the outstanding deficit. So the shift could not have been repaid as a practical matter. As for repayment in part… there are undoubtedly political connotations to this path, but the reality is that the shift was basically a cut from local school budgets. Instead of having that vulnerability, where districts are approaching banks to secure loans to continue operations, it might be better to be pragmatic about the shift for the immediate future, and stabilize funding for the long term.

          • So next bienium we have an even higher budget to try to fund. Makes perfect sense. If you’re a big governmentliberal.

            • Where did I (or anyone, for that matter) say that there would be a bigger budget? Or was that just another opening for a “liberals are bad!” comment from you, Mr. Brunette?

              The point was that repaying the shift does nothing if it leaves the overall funding situation still in turmoil, thereby creating the potential for future shifts in the future. A stable foundation is the top priority.

              • By increasing spending, we increase what will be needed next biennium. Rather than pay back the shift. Total raise in revenue and the projection shortfall and the shift payback should be equal. Growing government further only means more revenue is required next time around. Do the math! It’s liberal stance to keep the debt looming around from this shift. After all, it’s been ignored for the second time by the Governor now. BY design I might add.

  6. The renter’s tax credit is perhaps the most idiotic tax gimmick in the 50 states. I’ve lived in WA, CA, MT and NE, and I couldn’t believe it when I came to Minnesota and discovered that the state demonizes landlords by screwing them on their property tax, then turns around and wastes the money on a convoluted bureaucratic stunt to refund a portion of the collection to renters. If you want reform, try doing it the way other states do: charge the same property tax to everyone and let the landlords lower rent. By charging more property tax for landlords, MN effectively reduces rental property and inflates rent. Typical unintended consequence of magical liberal thinking.

    • Yeah, but you see that’s not “fair” to the renter. When you engineer social behavior through legislation, you have figure on where you can get some votes. Even though a renter is paying for a service, and the service covers the landlords property tax, it’s not fair that these renters end up paying for that. You see a landlord really ought to be losing money by renting a property. It’s ovbious this landlord has too much property to begin with, and owns more than his “fair share” of housing. That’s just not right that he should profit from other’s lack of property.

  7. Dayton said, “I wouldn’t vote for my budget myself except that what’s the better alternative.” Ummm. OK. I’ll bite. Live within your means. Payback the shift. There is NO need to raise revenue. We have had a year with exceptional results undeer the new reforms. We will be fine, if we just live within our means. That’s the far, far better alternative.


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